Shares in Westinghouse Air Brake Technologies, or Wabtec (WAB 5.23%), completed a highly volatile and eventful year by falling 25.7% in December, according to data provided by S&P Global Market Intelligence.
The big story with Wabtec in 2018 was the announcement of a merger deal with General Electric (GE 1.08%) Transportation. It's an ambitious deal for Wabtec, but it makes perfect sense. Wabtec already makes equipment for freight and passenger transit vehicles and locomotives, and adding GE's engines to its product line creates obvious opportunities for synergy. In fact, Wabtec's management believes the deal will generate more than $1 billion in tax benefits and $250 million in run-rate synergies by the end of the fourth year of the deal.
The good news is that as the year has progressed, it's become clear that Wabtec agreed to pick up GE Transportation at a cyclical low point. For example, GE Transportation received orders for 1,060 locomotives in the first three quarters of 2018 compared to just 80 in the same period of 2017, and its backlog rose 29% to $18.8 billion.
The bad news is that there are now question marks over how long the upward trend will last. Transportation is always seen as an industry highly tied to trends in the overall economy -- freight traffic in the U.S. and passenger traffic in Europe -- and any slowdown will see its customers start to negatively adjust their spending plans. In this scenario, Wabtec's upcoming merger will only increase its exposure at a time when it needs to execute with regard to the integration.
In this context, the slump in the share price is a consequence of fears over the economy and prospects for the transportation sector.
There may also be some negative sentiment over any of the assets that GE is divesting and leaving -- not least due to the difficulties that ABB has had with its acquisition of GE Industrial Solutions. However, as noted earlier, GE Transportation was one of GE's strongest businesses in the first three quarters of 2018 -- orders were up 68% in dollar terms, and the segment managed to raise profit margin from 14% to 16.3% in the first three quarters.
As we begin 2019, the key things to look out for are cyclical trends in the economy and in particular the outlooks from the railroad companies. Wabtec is still in the process of integrating its 2017 acquisition of France's Faiveley, and management will now spend much of 2019 implementing its plans for GE Transportation.
In a sense, it's a brave and opportunistic all-in bet on the future of rail transportation. That's great if end markets are cooperative, but the assumptions made regarding the acquisitions may prove optimistic if growth in the sector starts to slow in the coming years.
Check out the latest GE earnings call transcript.